Life insurance trust

If you are the owner of a life insurance policy or can designate beneficiaries, life insurance proceeds will be considered part of your taxable estate.  However, there may be a way to avoid this problem.

Are your life insurance proceeds subject to estate tax?
Is there a way to eliminate estate taxes on life insurance benefits?

Q. Are your life insurance proceeds subject to estate tax?
A. Owning a sizable life insurance policy can trigger or greatly increase federal estate taxes. Unless they own the policy, beneficiaries who receive life insurance proceeds do not have to pay income tax on these proceeds because those same benefits are included as part of your taxable estate.

Q. Is there a way to eliminate estate taxes on life insurance benefits?
A. A life insurance or financial services advisor can help design an Irrevocable Life Insurance Trust.  Premiums are paid by the trust from gifts made to the trust during the life of the insured.  Because the insured does not own the trust or have any control over it, the policy is not part of the insured’s estate.

The trust can be designed to accumulate the income earned on the death benefit after its payment to a surviving spouse until death.  Thereafter, the trust principal can be distributed to heirs without any tax.  The distributions to heirs can be restricted until they attain 46 years of age.

The trust must be irrevocable.  If you transfer a life insurance policy into a life insurance trust, but die within three years of the transfer, the policy ownership reverts to your estate and the estate pays tax on the proceeds. The value of your life insurance will be included as part of your taxable estate any time you keep the right to change the name of the beneficiary on the trust’s policy.

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